They say never mix money with pleasure. Many, many disputes arise from friends or family members exchanging money. Often, arguments can ensue when both parties are not clear of the terms under which the money is being given. Is it being lent, or was it a gift? Have you discussed it properly? Does everybody fully understand? If you are lending the money, are there clear guidelines as to when you expect it back. “Whenever you can afford it” is the usual agreement, but this is a very ambiguous declaration and it can land you in a lot of trouble.
Don’t ever take for granted that people you love and care about won’t cut you off if the waters are muddied by money. Don’t presume that those you love will keep their promise to pay you back. You also need to be aware of the financial implications for both you and the people you are lending or gifting to if you die, because large sums are classed as part of your estate. It’s important you protect yourself if you are giving out your hard-earned cash and one of the best ways to do that is by knowing the difference between gifting and lending money.
The most common purposes for lending money are as follows:
- Deposits for houses
- Paying off debt
- To make a large payment (e.g. to buy a car)
- To pay for weddings
- To pay for seasonal activities, like Christmas
- For holidays.
You might think it is obvious when you give money to someone, especially if they are a family member, that they are agreeing to pay you back, but even if they are, that doesn’t mean they are bound by the law to do so.
This is particularly difficult if you give money to your son or daughter. Unless you have the conditions of your lending agreed in writing, you might struggle to get your money back if they refuse to give it, even if you took them to court. This is because a judge can rule that you never had any intention to create legal relations with your child, or your sibling or parent, and therefore the recipient did not know that the consequences of not paying you were legally binding and would result in official action.
And if you give money to your spouse, or if your spouse takes it from you, forget it. If you’re legally married, your money is theirs and theirs is yours. That’s why you must contact a legal representative before you give anything out. It’s also important that you’re aware of the implications of your death on any loan or gift you give, and that the person you are giving it to knows it, too.
Lending or gifting?
In a scenario, when your child, or your friend, comes to you and asks you to lend them money to buy a house. You really need to think carefully about whether you are lending them the money, gifting them it, or becoming a joint purchaser of the property, as all have different tax implications and, if things go wrong, will be received very differently if you ended up at court.
Almost half of parents and grandparents don’t understand the tax rules on gifting, which means they could rack up an unexpected inheritance tax bill.
If you gift money to someone you love and you die within three years of the money being given, it might still count as part of your estate, which would mean the person you gifted it to would owe 40% of it as inheritance tax. That’s no good if they’ve already spent it on a house. After three years, the tax owed if you died would decrease year on year, starting at 32%, then down to 8% after six years. After seven years, gifts don’t count towards the value of your estate, so they’d be exempt from inheritance tax, but seven years is a long time, and the future is not guaranteed for any of us.
You can give £3,000 in each tax year without being hit with a charge, so perhaps consider gifting this amount for several consecutive years, rather than depositing £10,000 into someone’s bank account all in one go, especially if they don’t need it yet. If you’re paying towards a wedding, you could give £5,000 without it being subject to inheritance tax if you passed away.
Just as we can’t guarantee we’ll be here in seven years, we’re also unable to be sure that our circumstances won’t change. Redundancy and sickness are just two things that might happen to you, and if they do, you might want to call back any money you’ve given. A good way to do this is to lend it officially, as it means you keep some control of your cash.
In this case, you should speak to a professional about your individual circumstances and explain why you need an official agreement between yourself and whoever you are lending to, and they can draw up suitable paperwork.
It sounds like a very official and untrusting thing to do, but you must protect yourself and you shouldn’t feel guilty about that. You might start this process off as a loan but turn the remaining balance into a gift once you are sure you won’t need the money back.
Be aware that this loan could still be subject to inheritance tax, because it will still count as part of your estate when you die. It is important that whoever you are lending to knows this. If you decide to waive the debt and give the money as a gift after a period, the money will be exempt from inheritance tax from the date it is granted.
Whatever your plans, make sure both sides are clear about expectations. Discuss interest payments carefully if you are including them, and do your research, because any interest you charge is treated as income and will be taxed. You should also make sure your lender knows that they’ll likely have to pay a nasty inheritance tax charge on your death, and they should be preparing for this.
What else can I do?
If you are worried about gifting or lending money for a house, you could become a shared owner of the property they are purchasing, but this will be regarded as a ‘second home’, which means you will be charged a higher stamp duty.
There are other things to worry about, too, like what would happen if the housing market crashed and the house needed to be sold.
It’s best to speak to a legal professional before you do anything. If you need help deciding whether to lend or gift money to a loved one, please don’t hesitate to contact us on 0161 491 3933 or email firstname.lastname@example.org